Insolvency risks with transferring company assets

It is not unusual or inherently unlawful for companies within a group, or with common or related ownership, to transfer assets between them. There are often sound business reasons for creating a group structure. However, transfers require particular care where a business is experiencing financial difficulties or has significant debts.

Transferring assets where insolvency is a possibility can expose directors to significant legal risks, including potential personal liability. You should consider whether the transaction is fair to creditors, what legal risks arise and how they can be reduced.

What are the risks of transferring assets from a business with financial issues?

Start by assessing the company’s financial position, particularly whether it may already be insolvent or has significant long-term debts and is performing poorly. You should also consider the purpose of the proposed transfer. If assets are to be moved between group companies, it is important to establish their value and consider the legal, tax and accounting implications. Specialist advice should be obtained before proceeding.

Transfer of assets at an undervalue

One key risk is that an insolvency practitioner may investigate asset transfers made before insolvency. Under the Insolvency Act 1986, a transaction at an undervalue involving a connected company may be challenged if it took place within the relevant two-year period before the onset of insolvency and the statutory conditions are met. If cash or other assets are transferred to another group company, business or individual for no consideration or less than their value, the transaction may attract scrutiny.

An insolvency practitioner may investigate the reasons for the transaction, its value and its effect on creditors. If a court finds that the transaction is challengeable, it can make an order to restore the position, which may include reversing the transfer. Directors may also face consequences depending on their conduct, including disqualification, personal liability in certain circumstances or, where the relevant legal requirements are met, criminal proceedings. These outcomes are not automatic.

Putting assets out of reach of creditors at any time

Moving assets with the intention of putting them beyond creditors’ reach or otherwise prejudicing their interests may constitute a transaction defrauding creditors. Depending on the circumstances, the transaction may be set aside and directors may face personal liability or other legal consequences. The applicable legal tests and time limits vary according to the type of claim.

How to minimise director personal liability risk

A transaction is less likely to be successfully challenged if the company can demonstrate that it was entered into in good faith, for a proper business purpose and on reasonable grounds for believing it would benefit the company. Other steps that may help include:

• Assess solvency - obtain appropriate financial information and, where useful, an accountant’s or auditor’s assessment of the company’s solvency before and after the transaction.
• Document the decision-making – ensure board minutes record the commercial rationale, the directors’ consideration of the company’s interests and the potential impact on creditors.
• Obtain a valuation – keep evidence supporting the asset’s value and the consideration payable.

Golden rules

When transferring assets between companies, the following steps can help reduce the risk of a later challenge:

• Do not assume a transaction is safe simply because it takes place more than two years before insolvency. Different rules and time limits may apply, and the circumstances of the transaction remain important.
• Seek advice before transferring assets if the company is struggling to pay its debts.
• Consider the basis of any transfer for no consideration or below market value, and obtain an independent valuation where appropriate.
• Ensure the transaction does not leave the company unable to pay its debts or unfairly prejudice creditors.

How to de-risk the transfer of assets between group companies

The appropriate structure will depend on the circumstances. Common options include:

• Transfer assets by way of a dividend – a dividend in specie may be possible where the company has sufficient distributable profits and the relevant legal requirements are met. This does not automatically prevent a transaction from being challenged, particularly if the company is insolvent or the distribution prejudices creditors.
• Reduce the company’s share capital -  a capital reduction may form part of a wider restructuring or demerger involving an asset transfer. The statutory procedures must be followed, and the transaction must be assessed for its effect on creditors and solvency.
• Transfer shares rather than assets - a share-for-share exchange may be an alternative where the objective is to restructure ownership of a company. This does not itself transfer the company’s underlying assets, and the legal, tax and commercial implications should be considered.